ESG, SRI, and Impact Investing: What's the Difference?
Investing is no longer just about the returns. A growing number of investors also want their money to fund companies as committed to a better world as they are to their bottom line.
Socially responsible investing and one of its subsets, impact investing, have attracted more than one-third of the assets under professional management in the U.S., according to a 2020 survey by the U.S. Forum for Sustainable and Responsible Investment. That amounted to more $17 trillion in assets under management based on socially responsible criteria, an increase of 42% from 2018.
The growing demand has fueled a proliferation of funds and strategies that integrate ethical considerations into the investment process. Environmental, social, and governance (ESG), socially responsible investing (SRI), and impact investing are industry terms often used interchangeably by clients and professionals alike, under the assumption that they all describe the same approach. However, these terms have subtle differences of meaning.
Key Takeaways
- A growing number of investors want to encourage companies to act responsibly in addition to delivering financial returns.
- The terms environmental, social, and governance (ESG), socially responsible investing (SRI), and impact investing are often used interchangeably, but have important differences.
- ESG looks at the company's environmental, social, and governance practices alongside more traditional financial measures.
- Socially responsible investing involves choosing or disqualifying investments based on specific ethical criteria.
- Impact investing aims to help a business or organization produce a social benefit.
ESG
ESG refers to the environmental, social, and governance criteria for evaluating corporate behavior and screening potential investments. The ESG evaluation supplements traditional financial analysis by identifying a company's ESG risks and opportunities, which is to say the money they stand to lose by not acting on ESG risks and the money they stand to gain from seizing ESG opportunities. Financial returns remain the primary objective of ESG investing.
The table below lists some commonly-considered ESG factors.
Environmental | Social | Governance |
Energy consumption | Human rights | Quality of management |
Pollution | Child and forced labor | Board independence |
Climate change | Community engagement | Conflicts of interest |
Waste production | Health and safety | Executive compensation |
Natural resource preservation | Stakeholder relations | Transparency & disclosure |
Animal welfare | Employee relations | Shareholder rights |
SRI
Socially responsible investing goes one step further than ESG by eliminating or adding investments based solely on a specific ethical consideration. For example, an investor might opt to avoid any mutual fund or exchange traded fund (ETF) that owns the stocks of firearms manufacturers. Alternatively, an investor might seek to allocate a fixed proportion of their portfolio to companies that donate a high proportion of their profits to charitable causes.
Socially responsible investors might also avoid companies associated with:
- Alcohol, tobacco, and other addictive substances
- Gambling
- Weapons production
- Human rights and labor violations
- Environmental damage
Between 2018and 2020, assets allocated to sustainable, responsible, and impact investing grew more than 42%, rising from $12 trillion in 2018 to $17.1 trillion in 2020, according to the U.S. Forum for Sustainable and Responsible Investment.
Impact Investing
In impact or thematic investing, positive outcomes are of the utmost importance—meaning the investments need to produce a tangible social good. The objective of impact investing is to help a business or organization achieve specific goals beneficial to society or the environment. For example, an impact investment might fund nonprofit research in clean energy.
The Bottom Line
Approximately 38% of investors in a recent survey reported allocating assets to a responsible investing strategy, while 66% said recent climate disasters have made them more interested in responsible investing. The desire to invest ethically is especially pronounced among millennials, the study showed.
Accommodating that desire to do good remains no easy task given the growing complexity of ESG analysis and the proliferation of financial products marketed as socially responsible. Luckily, investors don't need to go it alone. Several rating agencies score publically traded companies on their sustainability goals. The agencies include Morningstar, Bloomberg, MSCI, and others.
Article Sources
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U.S. Forum for Sustainable and Responsible Investment. "The US SIF Foundation’s Biennial 'Trends Report' Finds That Sustainable Investing Assets Reach $17.1 Trillion."
Nuveen. "Sixth Annual Responsible Investing Survey,." Page 1-3.
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